As financial institutions adapt to the pandemic, business continuity planning (BCP) has emerged as a key area of improvement for banks of all sizes. While small banks have previously had less regulatory pressure to demonstrate liquidity management and stress testing, this fact is now changing.
“I can see smaller institutions trying to get ahead of the curve even more now because the challenges they faced during the pandemic,” says Nick Applebee, financial services consultant, Planixs, a real-time liquidity software provider.
“While we don’t know what that pandemic or that market issue will be in the future, certainly what does help is visibility, being able to know where you are as a firm right now, rather than having to phone your agent or having to wait for a report to generate overnight – that’s no longer acceptable.”
The pandemic has highlighted the importance of liquidity visibility and improved cash management processes. According to Simon Gray at Baringa Partners, a consultancy firm that specialises in liquidity management, small banks have an advantage over larger institutions in achieving liquidity visibility, as their tech infrastructure tends to be less complex.
“They have been slower to move in some areas, so there is still a great deal they can do, but I think they’ve got less of a challenge in terms of navigating the data complexities and multiple systems to really pull some of the information that’s needed across cash and liquidity management together,” he says.
Unlike the 2008 crisis, banks are currently not facing a crisis of liquidity. But the economic instability arising from the pandemic does but put cash management into focus.
“This has not been a liquidity crisis like in 2008, so it is a little different. As a result of that, the appetite to be better is there across the industry,” says Cindra Maharaj, director, Baringa Partners.
“We’re not in a liquidity crisis now. This is very different to that. What it did do though is create this focus on how to manage liquidity…and all the stress testing and thinking that has gone into banks’ liquidity management capability, at the very outset of this no one really knew what it was going to mean,” he says.
“When we saw the markets jittering, there was worry that this could have turned into a liquidity crisis, so even though it hasn’t, I think it has created that focus. There are unknowns that come our way and the more robust your liquidity management capabilities, the better you are placed to weather those storms. Even if they don’t turn into a crisis, you’re able to navigate through potential issues without as much worry.”
Shift in regulatory approach
A changing regulatory landscape provides further impetus for banks to change their liquidity processes. Previously, many small banks had slated liquidity and data management projects for one or more years in the future, but Applebee reports a trend in his customers pushing liquidity projects forward in recent months.
“As a result of the pandemic, this became a significant issue for some. There are people still working from home, not having an automated, real-time solution where you can see positions right now and download reports within seconds…not only do you have senior management, but regulators too, wanting to understand impacts on the likes of funding and they didn’t have the capabilities he says.
“We’re definitely seeing a push to have a solution now. I think there were many firms that felt this was the way forward in order to achieve what looks good, but maybe it wasn’t at the forefront of their minds and was something for 18-24 months’ time – That is now changing”
Maharaj points out that the regulatory approach in the US has not been as prescriptive as in other jurisdictions such as the UK. Regulations have focused on building capabilities and hitting certain metrics. Now, regulators are starting to require proof of data governance.
“It’s also around demonstrating governance, demonstrating that you have the right tools in place, demonstrating you understand where your data is coming from,” she says.
In the past, a lack of resources and limited scope from regulators presented little incentive for small banks to demonstrate data governance.
“Regulators have been a little bit slower because of their resource constraints and the immediate need of the last five to 10 years has been focusing on some bigger institutions that pose bigger market challenges if things go awry,” says Gray.
“The smaller organisations have had a little bit less focus, certainly in the UK…and I think that’s changed, the regulators have upskilled and resourced themselves to allow them to meet the scale and challenges at all levels of banks.”
While regulatory reporting has previously been considered a mandatory box-ticking exercise, there is new motivation for banks to improve their internal governance.
“If you look at what [regulators] are asking for … it’s to understand the liquidity viability of the organisation in question and also the impact that not having liquidity would have on not just the institution in question, but also the market in general. Anyone who is in a senior position who takes the reporting, signs off and then has submitted to the regulator(s) and doesn’t think about what it means for the organisation isn’t taking the role or report seriously enough,” says Applebee.
“That’s where we’re seeing pushes from banks that are most challenging some of their liquidity requirements and showing that actually their capabilities are greater than the regulator would have expected.”
Regular stress testing
Market volatility at the start of the pandemic has placed greater pressure on banks to conduct regular stress tests – and smaller financial institutions cannot be exempt.
“Stress testing is one of the most important tools for smaller organisations just to understand how they’re going to weather the storm and taking the lessons learned from 2008, taking the lessons learned from the larger banks is really important,” says Maharaj.
“Stress testing allows you to be able to react to different types of market volatility or even idiosyncratic volatility within your own shop, so having that capability is key, but to do that visibility of data is really important.”
While often associated with larger financial institutions, Applebee says stress testing is important for banks of all sizes.
“Once you have visibility it does enable you to do many things and stress testing is one of the most important, if not the most, that enables you to meet those needs both now and in the future,” he says, reporting a push in the last year from institutions running regular stress tests.
According to the Bank of England, regulator stress tests as well as concurrent bank stress tests were limited prior to the 2008 crisis but are now a core part of its regulatory toolkit.
“No matter how big or small you are, it’s having that ability to demonstrate, assess your own vulnerabilities and bring that into your institutions processes, policies and governance, and that’s key,” says Applebee.
“I can definitely see a push to be doing these types of stress tests every day and not just leaving it for regulatory submissions. As mentioned previously, I think stress tests are one of the most, if not the most, important processes that people should be running daily – that’s the key bit, firms have to be running it daily and not just as a tick box exercise.”